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Robo-Signers Spell More Trouble for Banks

A new fiasco exposes big mortgage lenders to fraud charges.

Last week, "cream of the crop" banking giant JPMorgan Chase(NYSE: JPM) got slapped with charges of foreclosure laxity. Investors should take the hint: This is still no time to start piling back into banking stocks.

In a May 17 deposition, one Chase Home Finance employee admitted to signing about 18,000 foreclosure documents a month, among a group of eight managers. Unfortunately, these managers didn't take the time to actually read over the documents or verify the loan history in the majority of these cases. Beth Ann Cottrell, the Chase employee in question, said, "My review is more or less signing the document unless it's questionable. That means, somebody has a question and brings it to me and says, 'Beth, can you take a look at this?'"

Follow the leaderYes, ladies and gentlemen, this is our country's finest banking institution. And in an industry that loves to follow the leader, JPMorgan Chase isn't alone in its negligence. One Bank of America(NYSE: BAC) employee also recently went on record to acknowledge that the bank employs "robo-signers" of its own. Renee Hertzler says that she signed as many as 8,000 foreclosure documents a month without looking through them. In a February deposition, Hertzler said, "I typically don't read them because of the volume that we sign."

Of course, JPMorgan Chase and Bank of America aren't the only two banking giants with robo-signers on their staffs. Cases are also pending against Wells Fargo(NYSE: WFC), Deutsche Bank(NYSE: DB), and Citigroup(NYSE: C), among others.

Title insurers sufferThe accused banks could face court investigations for fraud, if evidence supports the allegations that these robo-signers intended to speed up the process of removing homeowners close to default. In response, both Bank of America and JPMorgan Chase have declared a foreclosure freeze in 23 of the states that require court approval to foreclose upon homes. JPMorgan's Chase Home Finance unit will halt more than 50,000 foreclosure cases. Currently, about 2 million homes are in foreclosure; in August, distressed sales or foreclosed homes accounted for 34% of all homes sold in the United States.

But now, those who bought these homes and their title insurers may be subject to claims because of the faulty documentation these banks submitted. As a result, one of the nation's largest title insurers, Old Republic International Corp.(NYSE: ORI), will no longer provide insurance for any Chase foreclosed properties until the documentation issues get resolved. Shares of the company's stock fell Friday, along with those of other top title insurers such as First American Financial(NYSE: FAF)and Fidelity National Financial(NYSE: FNF), as investors considered how the foreclosure freeze might affect the companies.

More housing problemsIf you can't buy title insurance on a foreclosed house, then why would anyone actually buy the property? This issue certainly means more trouble for the banks with robo-signers, the aforementioned title insurers, as well as the economy and housing market as a whole. The last thing the housing market needs is more inventory, but that's exactly what this fiasco could produce.

Glenn Russell, a Massachusetts attorney who has already been successful in overturning foreclosure cases, told Bloomberg, "This is the most important issue of the whole mortgage mess, because families are being thrown out of their homes by people who may not have the right to do that."

This means foreclosure cases must be reevaluated, and lawsuits will be flying in as fast as the courts can handle the complaints. The process could take years to straighten out.

The Foolish bottom lineThe media's made a lot of noise about recovery in the housing market, but I'm not convinced. I won't believe the hype until a great deal of housing's unsold inventory gets worked off, and foreclosures slow from their current rates. In August, foreclosures hit a new record high: 91,000 families were thrown out of their homes, and another 304,000 were in default. Given the recent revelations, who knows how many of these foreclosures will be held up in a court of law? Until these issues are resolved, it makes sense for investors to be wary of banks with large mortgage portfolios, and the title insurers who protect buyers of foreclosed homes.

How much will these claims hurt the housing market? Let us know in the comment box below.